Summer 2017 Payroll Compliance Group

The Summer 2017 Payroll Compliance Group meeting covers topics such as IRS audits, wage overpayments, accounts payable review, non-resident aliens, 1042-S reporting, employment-related settlements, internal controls, and more. Audit findings highlight worker misclassification, tax liabilities, and fines. The presentation includes insights into current and prior year worksheets for handling overpayments.

• Payroll Compliance
• IRS Audit
• Wage Overpayments
• Internal Controls
• Employment Settlements.

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1. Payroll Compliance Group Summer 2017

2. PAYROLL COMPLIANCE GROUP (PCG) Debra Cormier State Payroll Compliance Administrator Debra.Cormier@state.de.us 302-672-5543 Tina Feliciano Payroll Compliance Officer Tina.Feliciano@state.de.us 302-672-5517 Tracey Walls Payroll Compliance Analyst Tracey.Walls@state.de.us 302-672-5541 Katrina Zapata Payroll Compliance Analyst Katrina.Zapata@state.de.us 302-672-5506

3. Agenda IRS Audit Wage Overpayments Accounts Payable Review Non-Resident Aliens & 1042-S Reporting Employment-Related Settlements 2017 Internal Controls Plans Review Results Open Discussion On the Horizon

5. IRS Audit Scope 2014 Tax Year Worker Classification Nonresident Aliens Exempt Tax Status Vendors TIN Matching

6. IRS Audit Audit Findings Worker Classification Workers misclassified as independent contractors State owes uncollected taxes, fines, interest Nonresident Aliens Employees incorrectly claiming tax exempt status State owes uncollected taxes, fines, interest Vendors Claiming non-reportable tax status in error Fines for each non-generated Form 1099-MISC

7. IRS Audit Audit Continues Expanded to include Tax Year 2015 State may be required to pay uncollected taxes, fines, and interest on 2015 non- compliant records

9. Current Year Worksheets STD/WC/PIP overpayments must go to the SBO/ICO office for initial review and approval SBO submits approved documents to PCG Include a breakdown of earnings that = REG Repayment may need to include amount of some deductions paid on original paycheck(s)

10. Prior Year Worksheets Cumulative Total Gross from all paychecks included in the overpayment Minus OASDI/Medicare if within the Social Security Administration threshold of 3 years 3 months 15 days Repayment may need to include amount of deductions on original check(s)

11. IRS/SSA Considerations Current Year overpayments require the net amount of the original check to be repaid. Income taxes withheld are not repaid; taxable income is reduced by the amount of the repayment prior to the W-2 generation. Per IRS constructive receipt rules, outstanding balances for Prior Year overpayments must be recalculated to include the income taxes that were withheld on the outstanding balance. Once an overpayment crosses the SSA threshold, the employee must also repay the OASDI and Medicare withheld on the outstanding balance.

12. Other Considerations Overtime paid to employees hired on or after 01/01/2012 does not count towards Pension Flex credits do not count towards Pension Utilize the correct version of PayBreeze Overpayments with Federal Grant funds must be moved to State or Local funds Calculate gross overpayment by separate Fund type Prior FY General Funds (Appr 00137) revert to the State

13. Before Tax Deductions OASDI Medicare Fed Deduction State Wilm Paybreeze Pre-Tax Plans Type Medical X X X X X Plan 125 Dental X X X X X Plan 125 Notification Vision X X X X X Plan 125 Notify employee of overpayment HealthCare Spending X X X X X Plan 125 Notify the Payroll to initiate overpayment collection process by submitting a copy of the Notification of Wage Overpayment Corrections Correct Job records to prevent additional overpayments Submit Worksheets to PCG Tax Shelter Annuities Dependent Care X X X X X Plan 125 Pension X X Plan401k Deferred Comp X X Plan401k Transportation X X X X X Plan 125 X X Plan401k School Life X X X X X Plan 125

14. Payout Earnings Codes Earning OASDI Medicare Federal State Wilm City Subject to Pension ATV Termination Accrued Vacation Pay YES YES YES YES YES NO ARV Retirement Accrued Vacation Pay YES YES YES YES YES NO ADV Disability Accrued Vacation Pay YES YES YES YES YES NO AFV Deceased Final Vacation Payout YES YES NO NO YES NO ARS Retirement Accrued Sick Pay YES YES YES YES YES NO ADS Disability Accrued Sick Pay NO NO YES YES NO NO AFS Deceased Final Sick Payout NO NO NO NO NO NO

15. Pension Rates Plan Employee Percentage PENA, PENAA, PENG, PENGG 3% of wages >$6000.00 PENB, PENBB, PENL, PENLL 5% of wages > $6000.00 PENO, PENOO 5% of wages > $6000.00 PENP, PENPP 7% of wages > $6000.00 PENJ 7% excluding imputed income PENE, PENEE 3% of wages > $6000.00 plus PENEE 2% > FICA Max wages

16. 3 Years, 3 Months, 15 Days SSA Rule Year of Overpayment PCG must receive the Payment by the below date in order for processing to occur to meet the IRS Deadline IRS Deadline OASDI/Medicare has expired for all overpayments prior to 2014 2014 03/23/2018 04/16/2018 2015 03/22/2019 04/15/2019 2016 03/20/2020 04/15/2020

18. Worker Classification Budget Constraints do not trump IRS regulations Employees must be paid through Payroll Workers providing services must meet specific criteria to be paid through AP Third Party Employer Option (Temp Agency) Substitute Teachers cannot be paid through AP

19. Worker Classification Vendor Descriptions Be Detailed! Do not use the following one-word terms Consultant Contractor Temp Services Better Descriptions Speech Pathologist Kelly Services - Substitute

20. Worker Classification Consider the most obvious facts Are services similar to those performed by an employee Is Retiree returning to perform essentially the same function as those performed as an employee Existence of a business license is not sufficient to justify an Independent Contractor classification If unsure please contact PCG to discuss

21. Worker Classification Be responsive to PCG Inquiries Substantiate classification using Worker Classification Decision Tool on PCG website Industry Standards are considered by PCG Funding Source is not a factor

22. Fringe Benefits Paid Thru AP Description must indicate benefit provided NO: Clothing Allowance YES: Clothing Allowance Steel Toe Shoes

23. Accounts Payable IRS Audits IRS takes a deep investigative dive when they identify questionable AP payments Typically looking back 3 years from current tax year Employers must provide archived information Contracts Invoices Payment History State is responsible for all unpaid income taxes as well as employee and employer share of OASDI and Medicare. Fines and Interest are assessed against the employer Assessment is often expanded to include subsequent tax years where the practice was essentially the same

25. Visa Exemptions Duration of Stay Tracking F-1 and J-1 Visa H-1B Visas getting more Federal scrutiny Contact PCG anytime you are hiring a new Foreign National employee

26. U.S. Income Tax Treaties Federal Income Tax Exemption Exemption Amount and Duration Varies by Country Details on PCG Bulletin 2014_002 Treaty Terms Validated Annually by PCG State Income Tax Exemption (Follows Federal)

27. U.S. Income Tax Treaties PHRST System Updates Employee-Level Setups Form W-4 Requirements Income Tax Treaty Exemption Threshold Tracking Earnings Codes established for each country 1042-S Year End Reporting

28. U.S. Income Tax Treaties Form 8233 (Income Tax Treaty Exemption) Employee completes form Organization reviews for obvious errors PCG reviews for tax compliance PCG forwards to IRS Organization allows exemption with PCG preliminary approval pending final authorization from IRS

29. U.S. Income Tax Treaties PCG Central Review PCG monitors Earnings Code usage PCG monitors Employee-Level tax set up

31. The Division of Accounting works with Organizations and State central offices to ensure appropriate application of regulations when determining the tax treatment and reporting of income paid to individuals and attorneys as a result of an employment- related settlement. 31

32. Submission to PCG Settlements must be signed by all parties Language must clearly state purpose of payment(s) Settlements are approved by several Central offices

33. Income Characterization Severance Pay compensation for involuntary termination Wage-related income Subject to employment and income taxes Reportable on Form W-2 Back Pay compensation for wages that would have been earned up to the time of settlement Wage-related income Subject to employment and income taxes Reportable on Form W-2 Restoration of Benefits employer pays health insurance premiums on behalf of employee Wage-related income Subject to employment and income taxes Reportable on Form W-2

34. Income Characterization Compensatory Damages compensation for physical and non- physical injury (i.e., humiliation, defamation, and emotional distress and pain and suffering) Non-wage-related income Adds to gross income Reportable on Form 1099 Punitive Damages compensation to punish a wrongful conduct Non-wage-related gross income Reportable on Form 1099 Liquidated Damages paid in lieu of compensatory damages due to breach of agreement or awarded by statute (i.e., FLSA, etc.) Non-wage-related gross income Reportable on Form 1099

35. Income Payment & Reporting Wage-Related Claims Paid through PHRST Payroll W-2 Reportable Non-Wage Related Taxable Payments Paid through Accounts Payable 1099 Reportable Attorney s Fees Paid through Accounts Payable 1099 Reportable (Employee & Attorney)

36. Attorneys Fees When a settlement agreement includes an amount to cover attorney s fees, the agreement must specify if the check is payable to the claimant, the claimant s attorney, or to both of them jointly. Regardless of the payee designation, this payment is taxable to both the employee and the attorney. It is taxable to the employee because, even though they may not have directly received the payment, they received the benefit of the payment (attorney s services) which makes the amount part of gross income.

37. Settlement Review & Approval In addition to following IRS tax regulations when making settlement payments, due consideration must be given to processes and programs administered by the State. Settlements may include references to employee benefits or leave accruals. Special funding sources may be required to cover the settlement payment.

38. Settlement Review & Approval Organization & Department of Justice Obtain all signatures on Settlement Agreement Complete Employment Settlement Worksheet Submit settlement agreement and worksheet to PCG Payroll Compliance Group Review and approve income characterization Determine appropriate tax treatment and reporting Advise Organization on what other Central Offices must be notified

39. Settlement Review & Approval Statewide Benefits Office Reinstatement of health benefits Medical expenses considerations OMB Funding sources must be approved by OMB Budget Analyst Organization Organization must update leave balances in PHRST State Pension Office Back pay awards must be mapped to specific pay periods State Pension Office adjusts pension creditable service according to the intent of the agreement.

40. Income Tax Considerations NEVER give tax advice! Employee may submit a new Form W-4 to control taxes withheld Claiming Exempt Allowed; but, may be a red flag to IRS to audit payee Settlement payments may not be deferred

42. Statewide Internal Controls Review Effective System of Internal Controls Annual Review Process Objective Scoring Process Ranking Internal Control Strength Dissemination of Results Field Work System Controls Strengthening Internal Controls Progress

43. Effective System of Internal Controls Management must continuously monitor and improve the effectiveness of internal controls associated with their respective policies. Monitoring and other periodic evaluations provide the basis for management s verification that existing controls are sufficient to safeguard the Organization s assets and mitigate risks of error and fraud. 43

44. Annual Review Process PCG reviews and scores the narrative plan and the companion questionnaire PCG collaborates with Organization representatives to strengthen deficiencies in the processes described on the submitted documents 44

45. What Gets Scored? Segregation of Duties System Access Authorization Process Reconciliations Record Protection & Retention Disaster Recovery & Business Continuity Questionnaire/Narrative Compatibility 45

46. Ranking IC Strength Total Scores converted to Percentage and Color-Coded Percentage Color Ranking 85% 100% Green Strong Internal Controls 75% - 84% Yellow Adequate Internal Controls 65% - 74% Orange Lacking Multiple Internal Controls 1% 64% Red Weak Internal Controls 0% Red No Plan Submitted Results sent to Submitter with a copy to Agency Heads Response Includes Suggestions for Improvement 46

47. Dissemination of Results Statewide results reported at a variety of venues Cabinet Secretaries Department of Education PCG Payroll Forum School Business Managers Meeting Charter School Business Managers Meeting 47

48. The Division of Accounting performs financial activities reviews at several Agencies throughout the year. These reviews are not meant to be punitive. Instead, they are meant to provide Central- and Organization-level management with a better understanding of strengths and weaknesses within the State s control environment. 48

49. 49

50. Statewide Results FY 17 Payroll Internal Controls 16 14 12 10 8 6 4 2 0 Merit Schools Charters Elected Higher Ed Strong Adequate Lacking Weak

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